Special Edition – Q2 15 Results – AMZN / GOOG / MSFT / AAPL / YHOO

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Amazon and Google star while Yahoo! fails to understudy.

Amazon – Profits can be us

• Amazon reported results that surprised the market as the company has finally started showing some profits.
• Q2 15A revenues / EPS was $23.2bn / $0.19 which was significantly ahead of consensus at $22.4bn / LOSS $0.14.
• The real driver was North America which posted 5.1% EBIT margins in Q2 15A compared to 3.9% in Q1 15A.
• The overseas business also played a part as EBIT margins improved to LOSS 0.3% in Q2 15A from LOSS 1.0% in Q1 15A.
• Amazon Web Services (AWS) also contributed well with 81% growth to $1.82bn in revenues upon which Amazon earned $391m or 21.4% EBIT margins.
• Active accounts also grew to 285m while Amazon Prime continued to see good growth where RFM estimates that Amazon is closing in on 35m users.
• However, much of this good work looks like it will be undone in Q3 15E where Amazon expects revenues / EBIT to be $23.3bn – $25.5bn ($24.4bn midpoint) / LOSS $480m – $70m (LOSS $205m midpoint) compared to consensus at $23.8bn / LOSS $229m.
• Although the forecasts are in line with consensus prior to the beat of Q2 15A, Amazon has given the market confidence that it can make profits when it wants to.
• However, this still requires for the investments (instead of profits) that Amazon is making to bear fruit and here I remain concerned.
• Its ecosystem strategy is still haphazard at best and I see no change to the series of expensive experiments upon which Amazon is engaged.
• Consequently, while Amazon may be able to show profits when it needs to, I can’t see value in Amazon until it decides to do so on a sustainable basis.
• The stock continues to price in profitability that is way ahead of forecasts which combined with its muddy strategy outside of retail, leads me to prefer other players.

 Google Q2 15A – The trouble with arriving

• Good results and a promised focus on revenue growth and profitability has pushed Google’s shares close to RFM’s valuation.
• Q2 15A revenues / EPS were $14.4bn / $6.99 compared to consensus at $14.3bn / $6.73 and RFM at $14.7bn / $7.31.
• Advertising revenues from YouTube and mobile continued to underpin steady revenue growth but the real story was OPEX.
• General and Administrative expenses have been very high as a percentage of sales for some time and this quarter saw both an improvement and the promise of greater discipline.
• GNA fell to 8% of sales down from 9% of sales in Q115A and Q214A but this still remains far above the 5% that I consider to be reasonable.
• The main issue is that there has been considerable uncertainty whether the new CFO, Ruth Porat, would be both willing and able to reign in what is widely seen as excessive OPEX spending.
• Commentary on the conference call, as well as some tangible results in Q2 15A, has given the market hope that Porat will be able to normalise spending.
• This could boost EBIT by around $3bn a year lifting margins by more than 300bp should GNA move into line with the industry at 5% of sales.
• This has been an overhang on Google’s valuation for some time and hope that this will be addressed is what has driven the shares.
• Google at $644 is now slightly above RFM’s current valuation of $626 per share meaning that Microsoft is now by far the one with the most upside.

Microsoft Q4 15A – Ducks on parade

• Microsoft reported a reasonable quarter that was marred by the $7.5bn write-down of the Devices and Services business acquired from Nokia in 2013.
• This represents substantially all of the acquired assets meaning that they are now considered to be almost worthless.
• Excluding this, Q4 15 revenues / EPS was $22.2bn / $0.62 compared to consensus at $22.0bn / $0.58 and RFM at $22.4bn / $0.60.
• The underlying trend of weakness in perpetual licensing businesses being offset by growth in cloud, Dynamics, Office365 and corporate unfolded as expected.
• Guidance for fiscal Q1 16E was disappointing as a combination of the strong US$, heavy cutbacks in the phone division and a longer than expected wait before Windows 10 has an impact, hurt forecasts.
• Q1 16E revenue is expected to be around $21bn which is below both consensus at $22bn and RFM at $23bn.
• However, OPEX improvements will be felt very quickly as OPEX for FY16E is now expected to be $32.1bn-$32.4bn reflecting the restructuring benefits coming from the phone business.
• Microsoft now has its ducks in a row and this coming fiscal year is going to be all about executing on the strategy and making sure that Windows 10 is successful.
• Microsoft is aiming to drive Windows revenues back to growth with Windows 10 but I will be happy if it just remains flat.
• Keeping legacy revenues flat with growth coming from cloud and Office 365 is enough for there to be upside in the valuation of the shares.
• If Microsoft can return Windows to growth and make a success of its ecosystem, this would be the icing on the cake.
• Microsoft remains my top choice in the ecosystem as Google’s recent rally leaves less on the table for investors.

Apple Q3 15A – Next cycle please.

• Apple reported results in line with expectations but there were signs that the pent-up demand for the iPhone 6 is beginning to wane.
• It is this cycle that has driven hype and expectations for Apple and I expect things to normalise from here.
• Q3 15A revenues / EPS were $49.6bn / $1.85 compared to consensus at $49.3bn / $1.81.
• 47.5m iPhone shipped compared to consensus at 48.8m while iPad sold 10.9m units which was in line with expectations of 10.9m units.
• 4.8m Macintosh computers sold just below consensus of 5.0m units but Apple is the only computer maker that saw YoY growth this quarter.
• I do not believe that the iPhone miss is a big issue as the company deliberately reduced inventory by 0.6m units to make way for the iPhone 6s that I expect to launch in September.
• Apple declined to give hard numbers for either the Apple Watch or Apple Music but I estimate that around 2m Apple Watches sold during the quarter.
• Furthermore it looks as if Apple Watch is most appealing to Asian users as WeChat and LINE are two of the three 3^rd party apps. seeing the most usage on the device.
• With shipments even lower than the 3m I had previously forecast (see here), my view that wearables remain a problem looking for a solution is further strengthened.
• Until Apple can come up with a must have reason to buy the Apple Watch, its unit shipments are likely to continue to be disappointing.
• Guidance for fiscal Q4 15E was somewhat light with midpoint revenues / implied EBIT forecast at $50bn / $13.2bn compared to consensus at $51bn / $13.7bn respectively.
• Apple was at pains to point out that 73% of its iPhone users had not made the upgrade to iPhone 6 as a sign of further growth, but I think that these upgrades will merely underpin volumes at current levels rather than drive revenue growth.
• Consequently, I think that the real growth from the iPhone 6 has already been seen, meaning that revenue from other devices or segments is needed to drive growth from here.
• On this basis, I think that Apple shares are not unfairly valued but while I think they offer a fair return to the investor for the risk assumed, it is not exceptional.

Yahoo! Q2 15A – Where is the money?

• Yahoo! reported another disappointing set of results as execution remains an enormous drag on both fixed and mobile revenues.
• Top line revenues grew 15% but once this was adjusted for Traffic Acquisition Costs (TAC) growth was flat YoY.
• This means that the revenue growth that Yahoo! has booked is being paid away to third parties implying that Yahoo!’s value add to these new revenues is zero.
• Q2 15A revenues (ex-TAC) / net income were $1.04bn / $152.5m compared to consensus at $1.03bn / $178m.
• Although the number of display ads sold increased by 9% and the price of those ads increased by 10%, none of this accrued to Yahoo! as it was all paid away through TAC.
• This is due to the new deals that Yahoo! has struck with Mozilla, Oracle and others but only time will tell whether this will translate into any meaningful value for the Yahoo! shareholder.
• Although Yahoo! is investing in growth, none of this is going to come through in terms of financial benefits in Q3 15E.
• Guidance was soft with revenues (ex-TAC) / adj. EBITDA forecasted at $1.00bn – $1.04bn / $200m – $240m.
• This compares unfavourably to consensus which was looking for $1.08bn / $281m.
• Furthermore, I continue to believe that Yahoo! is squandering a huge proportion of the opportunity that it has in mobile.
• Yahoo! claimed to have 600m monthly active users on mobile which in Q2 15A translated into $252m in revenues (ex-TAC).
• Yahoo! has excellent coverage of Digital Life (73%) meaning that its addressable market is not dissimilar to that of Google.
• With 63% coverage of Digital Life, RFM estimates that Google generated $2.63bn in revenues from 749m users of Android devices.
• If I assume that Yahoo! had executed on its assets as well as Google then Yahoo! should have generated something like $2.5bn in revenues from mobile in Q2 15A.
• In a nutshell Yahoo!’s poor execution in mobile has meant that it has missed out on 90% of the monetisation opportunity from mobile devices.
• I think that this is because its users on mobile use it for very simple things like checking email and news and do not engage with Yahoo! as an ecosystem.
• Until Yahoo! makes its mobile assets engaging, consistent and integrated, users are unlikely to engage meaning that its revenue opportunity will be taken by competitors.
• The result will be a company that underperforms its peers and a stock price that is driven solely by legacy investments.